Investors Pressure Firms on Opioid Crisis

This article originally appeared in Morningstar Direct Cloud and Morningstar Office Cloud.

As the opioid crisis continues to rage in the United States, publicly traded companies that manufacture, market, or sell the prescription drugs at the center of the epidemic are facing shareholder resolutions for governance reforms and improved disclosure of risks around their involvement in the making or sale of the drugs.

In the process, this effort is turning the spotlight to how major fund companies and other big investors are casting their proxy votes in 2019.

Starting this week and continuing over the next month, shareholders of Johnson & Johnson JNJ [1], Mallinckrodt MNK, and CVS Health CVS will be voting on opioid-related resolutions. They join shareholders of Walgreens Boots Alliance WBA and AmerisourceBergen ABC who have already voted on comparable resolutions in 2019.

In all, since July 2017 (which is considered to be the start of the 2018 proxy season), 19 shareholder resolutions that at least partially relate to the opioid crisis have been placed on the ballots of 10 companies, according to the Morningstar Fund Votes proxy database.

The companies with opioid measures on the docket count as major shareholder firms such as Vanguard, BlackRock, DFA, and OppenheimerFunds. For mainstream mutual fund companies, these votes are a test of their responsiveness to an issue that matters from the standpoints of social impact, corporate governance, and shareholder value via companies’ bottom-line performance.

Of the 19 resolutions, 14 have come to vote to date (24 April), averaging 35% support, a relatively high level of support given that, across the board, management of targeted companies recommended investors vote against the resolutions. And at three companies--Assertio Therapeutics ASRT, Rite Aid RAD, and Walgreens Boots Alliance--support was north of 60%.

Between 1999 and 2017, 400,000 people died from opioid overdose in the US. In 2017 alone, opioid overdoses claimed 47,600 lives, representing another high--around 10% more than in 2016--in the deepening crisis.

The cost to the economy can be measured by its impact on the labor market, healthcare, and justice systems and is estimated to have been more than $500 billion, or 2.8% of gross domestic product, in 2015, according to a 2017 White House Council of Economic Advisers report.

Over 1,500 lawsuits have been brought against large pharmaceutical manufacturers and distributors by individuals, unions, hospitals, Native American tribes, cities, counties, and states. These were recently consolidated into a multidistrict litigation procedure. The suits claim that manufacturers failed to warn of the potential for abuse, given evidence they had of opioids' highly addictive properties, and that distributors failed to report overprescription of the drugs. In addition, some states are pursuing independent civil lawsuits against specific pharmaceutical distributors for their role in a chain of alleged deception that enabled and fueled overprescription.

The claims run into billions of dollars, which could represent a significant direct investment risk to pharmaceutical company stockholders and, therefore, to mutual fund shareholders.

Many of the resolutions have been organized by Investors for Opioid Accountability, an investor campaign led by the UAW Retirees Medical Benefits Trust and Mercy Investments. The IOA, which was formed in 2017, has 53 investor members with $3.4 trillion in assets under management. Members include asset managers Domini, Hermes, Aegon, Neuberger Berman, Calvert, and NEI Investments as well as unions, public pension funds, and state treasurers' offices and other organizations. (The full list of members is available here.)

Roughly, opioid-related shareholder resolutions can be sorted into five types, asking that companies:

• disclose governance strategy to address financial and reputational risks of the opioid crisis,

• disclose direct and indirect lobbying activity,

• adopt policy requiring independent board chairperson,

• adopt policy that incentive compensation metrics not exclude legal and compliance costs, or

• disclose incentive pay clawbacks linked to misconduct.

While these measures are considered good general governance practice, in the case of the resolutions identified in the first exhibit, they are explicitly motivated by reference to the legal and regulatory scrutiny of business practices related to opioids, or to the reputational risks from media attention to the company’s lobbying around drug-related legislation or support of lobbying groups.

Two of the most successful resolutions were those at Rite Aid and Walgreens, earning more than 60% support from shareholders notwithstanding recommendations of management in both cases to vote against the resolutions. Both resolutions urge boards to describe the governance changes in place to more effectively monitor the financial and reputational risks related to the opioid crisis, including compensation metrics, stakeholder inputs, and company political activities.

The top three fund company holders of Rite Aid shares are BlackRock, Vanguard, and OppenheimerFunds, and the top three fund company owners of Walgreens are Vanguard, BlackRock, and State Street.

It’s not yet public how U.S. mutual fund companies cast their votes on the more recent resolutions. Funds are only required to disclose their votes annually, and the information for the year ending June 30, 2019, won’t be available until the end of August.

But in the exhibit below, we highlight votes by select fund managers on resolutions that came to vote in the 12 months ended in June 2018. The voting record was mixed in this sample, although in the two resolutions most directly connected to the opioid crisis--at AmerisourceBergen and Assertio Therapeutics, earning 41% and 62% support, respectively--the “for” votes were stronger.

On April 25, shareholders of Johnson & Johnson vote on a motion filed by the New York City comptroller on behalf of city pension funds that asks for disclosure of any senior executive incentive pay clawbacks linked to misconduct, noting Johnson & Johnson’s defendant status in litigation alleging the use of overly aggressive opioid sales tactics.[1]

At Mallinckrodt’s upcoming May shareholder meeting, Mercy Investment Services and co-filers will ask the board to:

“...report to shareholders by December 31, 2019 on the governance measures Mallinckrodt has implemented since 2012 to more effectively monitor and manage financial and reputational risks related to the opioid crisis in the United States (U.S.), given Mallinckrodt's sale of opioid medications and active pharmaceutical ingredients in opioid medications, including whether Mallinckrodt has assigned responsibility for such monitoring to the Board or one or more Board committees, revised senior executive compensation metrics or policies, adopted or changed mechanisms for obtaining input from stakeholders, or altered policies or processes regarding company lobbying activities.”

Mallinckrodt--maker of generic opioid drug Oxycodone--faces two other opioid-related governance resolutions on its May ballot. The board recommends a "for" vote on the lobbying disclosure resolution, a rarity for the proxy process. In 2017, the company agreed to pay $35 million to settle government allegations that it failed to report suspicious drug orders.

The number of resolutions slated to be voted on doesn't reflect the full scale of the effort by shareholders. They are also making headway through direct engagement with company managements, according to the 2019 Proxy Preview report published by shareholder advocacy group As You Sow. (The report can be downloaded here.)

Since the start of the 2019 proxy season, in 22 of the cases where IOA coalition investors asked for either a board risk report or misconduct clawback disclosure, the company agreed to the measures without having to go to a vote.

Illinois Treasurer Michael Frerichs, whose office oversees investments totaling around $30 billion, withdrew a 2019 resolution filed at CVS Health asking for disclosure of a broad range of governance responses to opioid-related risks. This followed a successful engagement by the treasurer's office and IOA members that led to the publication of a stand-alone report on CVS board's role in overseeing the company's Opioid Action Plan as well as new web pages describing a companywide strategy in place for addressing prescription abuses. Max Dulberger, director of corporate engagement & investment operations for the treasurer's office, notes that the Illinois State Treasurer's Office, as part of IOA's collective efforts, plans to continue dialogue with this and other investee companies as a fiduciary whose constituents are affected financially and many other ways by this unfolding crisis.

With the proxy process under threat from lobby groups backed by industry trade associations, investors' use of shareholder resolutions to address the investment risks related to the opioid crisis stands as a reminder of the crucial role of shareholder advocacy and proxy voting in channeling investor market vigilance and providing a framework for constructive dialogue about strategies for addressing investment risks.

[1] JNJ’s resolution was voted on Thursday, 25 April, and on Friday, 26 April, the company posted the results of the vote on its 2019 AGM. Forty-six percent of shareholders supported the shareholder-sponsored request for annual disclosure of whether, and why, incentive compensation was recouped from, or was required to be forfeited by, any senior executive. This raises the average level of support for opioid-related resolutions over the past two seasons to 36% from 35% over 13 resolutions voted so far.